China has introduced some star-quality reforms to shoot its economy back to goal winning form, writes Richard Li
China’s development is being challenged by a complicated and severe international environment. As a whole, the domestic economy has maintained healthy growth in the past few months (although the recent figure of 6.2% in the second quarter is the weakest in 27 years, according to China’s National Bureau of Statistics and tradingeconomics.com). Still, the central government has maintained its composure, and by gradually rolling out reform measures to attract foreign investment and encourage technological innovation in the capital market, it has injected a sense of optimism.
However, as the economy comes under pressure, market players are being confronted with new challenges. The biggest of these is undoubtedly the trade war with the US, which is affecting foreign investment into China.
Milton Cheng, managing partner of Baker McKenzie’s Hong Kong office, says, “The protracted trade conflicts are also keeping our international commercial and trade practice very busy as companies rework their supply chains to keep themselves out of the line of fire.”
Still, the Chinese market remains hugely attractive for foreign investment. Eric Liu, a partner at Linklaters Zhao Sheng in Beijing, says that market has been undergoing an opening-up process, but the trend is intensifying. “For example, just some time ago, the government issued a new negative list for foreign investment in China, and many international investors are paying close attention to this trend of opening up,” he says.
“Regarding the financial sector I am involved in frequently, securities companies, futures and insurance companies are all seeing major breakthroughs in their maximum ratios of foreign investment. Now the ratio has reached 51%, but the ratio requirement will be completely cancelled next year. This means that foreign investors will be allowed to gain the right of control, leading to major changes in their future operation strategies in practice. We have noticed that many foreign investors are considering increasing their shares in their joint ventures.”
Han Lijie, a partner at Katten Muchin Rosenman in Shanghai, says that although the US-China trade war has resulted in many restrictions on foreign investment posed by the US side, “many foreign companies still seek in-depth co-operation, and are willing to share core technologies with Chinese companies.
“On the one hand, these international companies only introduce technologies into China. Their products are manufactured and sold here and need not be sold back to the US. On the other hand, chemical engineering, water affairs, electricity and some other industries are becoming increasingly well developed in China, providing new opportunities for international companies with high-end technologies in related industries.”
Pressure from the US also has an impact on the overseas investment of Chinese companies. Wei Jun, chair of the Greater China practice at Hogan Lovells, says the environment for Chinese companies’ overseas acquisitions is not friendly, and one recent reason is the China-US trade war. “The US has enhanced the power of trade review bodies, including CFIUS [US Committee on Foreign Investment],” she says. “Legislators in the US also claimed that this change is targeting Chinese companies. Hence, the pathway for Chinese companies to invest in high-tech industries in the US has been mostly blocked.”
In addition, Chinese investment in Europe is waning. “Germany, France, the UK and other countries are following the reviewing processes of CFIUS in the US,” says Wei. “The EU is also in great turmoil. Furthermore, if a Chinese company bids for a European company, even one that operates poorly and is desired by no one, sometimes such a bid will still be interfered with by the US.”
Increasing difficulties in investing in the US and Europe have driven Chinese funds to other regions. “Under the Belt and Road Initiative, Chinese overseas investments are expanding, especially in Eurasian countries along the Belt and Road routes … with investments in projects of basic infrastructure taking a large proportion,” says Ma Jiangtao, the Beijing-based China CEO at Dentons.
The growing prosperity of cross-border commercial activities has led to increasing multi-jurisdictional disputes. In June 2018, the First and Second International Commercial Courts of the Supreme People’s Court were inaugurated in Shenzhen and Xi’an, respectively. Ma says that by the end of 2018, both courts had accepted a number of international dispute cases.
“Major pending cases of cross-border disputes may involve many aspects, including corporate law, contract law, intellectual property law, arbitration law and private international law,” he says. “Clients need our help to understand the legal environments and commercial practices of different regions. We have adopted a holistic approach that employs litigation, arbitration and business negotiation to solve disputes for clients.”
Chinese arbitration agencies are also endeavouring to make adjustments. At the beginning of the year, Beijing Arbitration Commission/Beijing International Arbitration Centre (BAC/BIAC) released the Public Consultation on Draft Investment Arbitration Rules. “It is estimated that, after the rules are officially released, the disputes between investors and a sovereign country can be better resolved,” says Chen Fuyong, deputy secretary-general of the BAC/BIAC.
“Our rules have many innovations. For example, the rules allow appeals against arbitral awards based on the consent of both parties, and propose that all arbitration documents shall be delivered through electronic means. These are both cutting-edge arrangements. The disputes of this kind are similar to transnational litigations and will pose many challenges.”
Another source of the growing commercial disputes is China’s domestic economy, especially the financial sector. Chen believes that settlement of commercial disputes is closely related to the overall economic cycle. “The current economic situation is not ideal. Therefore, disputes are rising in all fields, especially in investments and the financial sector,” he says.
Tao Xiuming, the Beijing-based managing partner of JunZeJun Law Offices, says that, with the downtown, China is undergoing deleveraging and risk control in the financial sector, which are essential. “However, some financial regulation policies were enforced too forcefully, causing huge problems in market liquidity,” he says, “under such circumstances, disputes in financial and investment areas in the past few years have experienced an explosive growth. Many companies even went bankrupt.
“Many disputes in the financial sector involved all kinds of innovations in the past. Some of these innovations came out when relevant legal systems and regulatory systems were not yet well-developed,” adds Tao. “Many new problems emerged during their practices, bringing many legal challenges to dealing with related disputes and cases.”
According to Peng Qing, Beijing-based managing director of Tiantong Law Firm, “During an economic downturn, problems also rise from implicit guarantees in many debt relationships”. Many financial institutions privately looked for third-party or even fourth-party implicit guarantees. “If the cash flow remains healthy, these implicit guarantees will not have any risks,” he says. “However, as the market is seeing many unpaid debts, these implicit guarantees start to be revealed. Therefore, how to determine their legal effect has become a key issue.”
Zhou Bo, a senior partner at Wintell & Co in Shanghai, says the sudden increase of disputes in the areas of funds, trusts, private equities and P2P (peer-to-peer) has resulted in a dramatic rise in litigation and arbitration cases. “This is mainly because new regulation rules, including the new asset management standards, are being introduced continuously, posing stricter regulations on financial products,” he says. “As the macro economy weakens, cash flow problems made an increasing number of financing parties unable to repay principals and interests in time. Litigations and arbitrations have thus become inevitable in the end.”
Zhou says clients mainly focus on two problems: The first is these cases often involve criminal and civil cases simultaneously, and criminal cases usually remain pending for a long time. The second is that many courts lack experience handling public companies’ share pledges as collateral for loans, and are slow in processing cases.
The number of labour disputes is also rising. “In the past few months, as the economy experiences a certain degree of downturn, and companies need to decrease costs and increase efficiencies, things like company closures, relocations and executive layoffs become more frequent,” says Qu Xiaorong, a Shanghai-based vice director and senior partner at River Delta Law Firm. “In addition, companies now have stricter demands for compliance. Therefore, labour disputes have increased in the past few months. The legal problems that clients focus on are mainly the handling of severe violations of regulations or discipline.”
Development of Fintech
Integration with technology is a major trend in the financial sector, and all major banks are actively expanding their internet financial business. Wu Weiming, a senior partner at AllBright Law Offices in Shanghai, says the main reason behind this trend is that “regulators are showing growing support for digital financial inclusion of commercial banks”.
“As the competition of traditional banking intensifies, commercial banks must introduce new business constantly. As a result, data-driven internet financial inclusion is seeing relatively rapid development in the commercial banking sector.”
Xu Cheng, a partner at Zhenghan Law Firm in Shanghai, says lawyers are increasingly realizing the trend of traditional financial businesses moving online. “This means that when products are being designed and documents are being drafted, the issues unique to online services receive more attention, including, but not limited to, identity authentication, e-signatures, push notifications, litigation arrangements, and IT system support for financial services, and these issues should be considered from the beginning,” he says.
The transition from offline to online mean changes in the original risk control system and internal operating procedures based on offline services. “In the next few years, digitalized transactions and legal services based on fintech will be new trends,” he says.
The Star Market
Guan Jianjun, managing partner of Grandall Law Firm’s Shanghai office, says capital market businesses for IPOs in both China and overseas has grown rapidly in the past few months due to the inauguration of the SSE Star Market and amendments to listing rules in Hong Kong Exchanges. “Clients focus on different financial terms and legal regulations of different sectors in different capital markets, and on how to satisfy the demands through corporate reorganization,” he says.
The establishment of the Star Market represents a milestone in China’s capital market. Liu Yinhong, a director of Jincheng Tongda & Neal’s Shenzhen office, says the purpose of the Star Market is to implement an innovation-driven development strategy, build China’s strength in science and technology, improve the fundamentals of China’s capital market, invigorate the market and protect the legal rights of investors. “The speed of launching the Star Market and the efficiency of the regulators has been well applauded by the overall capital market,” he says. “High-tech companies and companies in strategic emerging industries are eager to have a try in the capital market.”
The Star Market was officially inaugurated on 13 June. A registration system for listed companies is also currently being experimented with. James Weng, a partner at Llinks Law Offices in Shanghai, says the above-mentioned are “no doubt some of the biggest reforms in the history of the capital market in China.
“The registration system brings new efficiency and predictability to connecting tech innovation-driven companies to the capital market,” he says. “After its inauguration, the Star Market is seeing explosive growth in IPOs.”
Weng says the inauguration of the Star Market also ignited IPO applications on other boards. “As the approval rate of IPOs on the Main Board has significantly increased since the beginning of 2019, the number of companies preparing to initiate or reinitiate IPOs will see a clear boost,” he says.
Zhu Xiaohui, the Beijing-based managing partner of Tian Yuan Law Firm, says the issuer now has more IPO options. “Because the Star Market has multiple standards for IPOs, it is possible for companies not up to traditional IPO standards to enter the capital market through the Star Market,” he says, adding that the new board has pushed forward approval processes of the Main Board, SME Board and GEM Board, giving companies a more predictable IPO timeline.
Li Da, a partner at Jingtian & Gongcheng in Beijing, says that, “because of the new issuing and IPO requirements, the Star Market has attracted many companies that were previously unqualified for IPOs in the A-Share Market, or planned to go public overseas as red-chip companies”.
The Star Market has also created new opportunities for Chinese lawyers. “Other than the capital market business, which involves financing through IPOs on the Star Market, there are also opportunities arising from civil and commercial financial disputes, administrative disputes and compliance issues related to the Star Market,” says Hua Xiaojun, a partner at JunHe in Beijing.
“Companies applying for an IPO in the Star Market mainly focus on the legal issues such as business compliances, determination of controlling interests, related party transactions, horizontal competitions and employee stock-option incentives, etc. In addition, companies planning for the IPO also pay close attention to determining which set of IPO standards to follow, and whether the company is suitable for the style of the Star Market, etc.”
Li Da says that clients are especially concerned with: (1) whether the company is suitable for the positioning of the Star Market; (2) whether the company meets the issuing and IPO requirements, including which set of IPO standards to follow and how to determine market capitalization; (3) arrangement of different voting rights; (4) special rules for red-chip companies to issue shares or depository receipts in the Star Market; and (5) substantial differences between the registration-based IPO system and the approval-based IPO system.
Yang Wenjun, a partner and member of the management committee of Boss & Young in Shanghai, says she has noticed the rapid growth of corporate compliance business. “Clients with this kind of legal demand are usually foreign-owned enterprises, large state-owned companies and internet companies,” she says. “The growth in this area mainly comes from the increasing compliance awareness of the legal directors in large companies, and the regulation changes and policy adjustments by governmental bodies.
“Quite a few of our clients propose that lawyers should be involved in the specific work regarding corporate compliance, and set up special legal entrustment to allow external lawyers to participate in screening of business compliance risks, optimization of compliance reviewing on internal procedures, and professional training and independent investigations on data compliance,” says Yang.
Ulrike Glueck, the managing partner of CMS China’s Shanghai office, says work in the areas of competition and antitrust, employment and termination of employees, IP and data protection, and environmental compliance has been growing.
“The reasons for growth are implementation of new laws – for example in cybersecurity; the tougher economic situation, which leads to focus on compliance and also to the lay-off of employees,” she says. “In the environmental and antitrust areas, increased scrutiny of the authorities is also one of the reasons.”
Fan Jiannian, a Shanghai-based partner at Gide Loyrette Nouel, has seen a faster than average increase in personal data use and protection work, triggered by factors including the leak of Facebook personal data in the US, the implementation of GDPR in Europe, and the further adoption of different regulations and guidelines in China in recent months.
“With the fast digitalization of the world and big data becoming more and more a key element for conducting business, such issues will become even more crucial in the future,” says Fan. “The legal compliance of the transmission of personal data, even between affiliated companies, and in particular for cross-border use, has been the focus in recent months.”
Kevin Xu, a senior partner at MHP Law Firm in Shanghai, says clients in the healthcare industry, especially those with transnational backgrounds, are concerned with data security and cross-border data transmission. “Tough regulations have resulted in high demand for compliance,” says Xu. “For example, the new Regulation on the Administration of Human Genetic Resources, and Measures on Security Assessment of the Cross-border Transfer of Personal Information (Draft for comment), has drawn a high level of continued attention from clients in this industry.”
With strengthened legal protection and the market players’ raised awareness of safeguarding their rights, IP business volume is expanding steadily. Wu Lili, a partner at Han Kun Law Offices in Beijing, says China is increasingly a preferred country to file IP lawsuits. “China is showing improving judicial protection of IPs, and the trend is moving in favor of the patentees as a whole,” she says. “For example, the increasing sum of damages, and efficient and rapid hearing procedures, have created a healthy environment for judicial protection.”
Zhu Zhigang, a senior partner at Wanhuida Intellectual Property in Beijing, says the rise in IP business “is mainly driven by economic and technological developments, and the national policies and laws that attach great importance to the creation and protection of IP”.
Xie Guanbin, senior managing partner of Lifang & Partners in Beijing, says the increase in IP business is closely related to China’s increasing protection of IP, and corporate and individual awareness about safeguarding IP rights. “More and more companies are starting to take precautions and early warnings against disputes in advance,” he says, “employing a team of legal professionals specialized in IP to help build up a system of IP management and compliance, standardize procedures and train staff.”
Zhu Zhigang says that, in the IP area, the following issues are worth paying attention to: (1) as the number of applications for trademark registration increases, the number of trademark searches, rejections, oppositions, reviews and related administrative lawsuits is also rising; (2) malicious registration of trademarks remains rampant despite crackdowns; (3) the problem of using a trademark in a form different form the form in which it was registered is prominent, and the process for protecting related IP rights is complicated and long; (4) right conflicts between companies names and trademarks are serious; (5) the number of patent infringement cases involving administrative enforcement continues to rise; (6) infringement cases of games have increasingly become the center of attention, with the number of cases and the amount of money involved both increasing significantly.
Intense market competition is also a factor. China has many different market players including transnational companies and domestic companies. “As an approach of business competition, using IP lawsuits to gain a better market position is also frequently adopted by different business entities,” says Wu Lili, from Han Kun Law Offices.
Wu says that “patentees with a large number of patents are also trying to cash out on the patents through lawsuits”. Many patentees have made large investments and accumulated a large number of in-force patents, but not all patented technologies can be used on their own products.
“Therefore, transferring or licensing unused patents is considered. Obtaining high compensation through lawsuits, or using lawsuits as a bargaining chip to transfer or license patents, is also a factor in patent lawsuits.”
Yao Guanyang, a partner at Liu Shen & Associates in Beijing, also says that “some Chinese companies have accumulated a large number of patents over the years, and are now considering how to use patents to take over and consolidate market shares. It is expected that more disputes over patents will emerge.
“In addition, China’s economy has entered a stage where developments are driven by innovation, while low-end manufacturing is being transformed and upgraded. These changes require patent protection, which spurs the emergence of disputes.”
Yao says that, the clients are mainly concerned about the following legal issues: whether the court will issue an injunction when standard essential patent (SEPs) are accused of infringement; whether the sum of damages over patent infringement can be raised; the probability of patent invalidity; whether the court can directly decide on the validity of patents; the impact of the evidence producing system and the evidence spoliation system on the plaintiff and the defendant.